Understanding the stock market may seem like trying to understand a foreign language. However, when it comes to traders and investors, stock charts are the key to that language. Charts visually show the price movement of a stock over certain intervals of time. Stock charts can be considered the weather reports for market conditions and supply and demand. Learning to read stock charts is the basis for technical analysis, which uses price movement and volume—a series of historical prices—to find correlations in stock price movement to attempt to forecast price changes in the future. Technical analysis uses price; fundamental analysis considers the intrinsic value of a company. In other words, technical analysis is focused on the "what" and "when", as what is happening in the market, and what is a good time to execute a trade.
The purpose of this section is to introduce and identify common components of stock charts, illustrated patterns for trading, and ultimately, to be able to make a better-informed decision. For a more in-depth study of the difference between technical analysis and fundamental analysis, see our blog article, Difference Between Technical and Fundamental Analysis.
What is a Stock Chart?
A stock chart is a graph that plots the price of a stock against a timeline. It's the primary tool for technical analysts to gauge the health of a security. The two main axes are:
Price Axis (Y-axis): The vertical axis on the right side of the chart that indicates the stock's price.
Time Axis (X-axis): The horizontal axis at the bottom that shows the time period, which can be anything from a single minute to a year.
Another essential factor is volume, which is usually represented as a bar chart located beneath the main price chart. Volume refers to the total shares traded in a time frame. High volume can be used to verify a strong price trend, while low volume can indicate a lack of conviction or reversal of price direction.
For those looking to master the basics, our Financial Market Course is a perfect starting point.
Types of Stock Charts
There are many charts available, but the three you'll work with most often are:
Line Chart
The most uncomplicated chart. A line chart is drawn by plotting and connecting a stock's closing prices over time. Line charts are good for providing a general, high-level view of a stock's trend, but they do not offer any detail beyond that.
Bar Chart
Also called an OHLC (Open, High, Low, Close) chart. Each vertical bar corresponds to a time period (day, hour, etc) and shows the opening price, the highest price, the lowest price, and the closing price. The horizontal tick on the left of the bar is the opening price, and the tick on the right side is the closing price.
Candlestick Chart
This is the most favored among traders because it presents a lot of visual information. Each candlestick, in fact, tells a whole story of price movement for a defined period.
The Body: The thick part of the candle. A green (or white) body shows the closing price was greater than the opening price (bullish). A red (or black) body means the closing price was lower (bearish).
The Wicks (or Shadows): The skinny lines protruding from the body. The upper wick shows the high price, and the lower wick shows the low price for that period.
For more about this popular style of chart, click through to our guide, What is a Candlestick Pattern? Explained to Beginners.
You can also join our Technical Analysis Crash Course to learn how to identify and use these patterns in live trading.
Reading Trends and Basic Indicators
After you have decided on a chart to observe, the next task is to determine the direction of the market as a whole, or trend. Clearly, there are three types of trends,
Uptrend: A series of higher highs and higher lows. Buyer's control, and the price is moving up.
Downtrend: A series of lower highs and lower lows. Seller's control, and price is moving down.
Sideways Trend (or Consolidation): The price is moving in a narrow horizontal range, which usually signifies market indecision.
A Technical Analyst uses indicators such as trend lines and moving averages to help identify and confirm these trends.
Support and Resistance: These are important price levels on a price chart. Support is when a price level is expected to pause in a downtrend because there is a large demand built up at that level. Resistance is the opposite, when a price level is expected to pause in an uptrend because there is a large supply built up at that level.
Moving Averages: Moving averages are lines on a price chart that show the average price of a stock over a specific period. Moving averages can smooth out the price fluctuations and help identify the underlying trend. The 50-day and 200-day moving averages are observed by long-term investors. To learn more about how moving averages and many other tools in technical analysis work, refer to our blog on Top Technical Analysis Tools.
Common Trading Patterns
When applying the skills of reading stock charts, you will start to see price activity forming repetitive patterns. These trading patterns do not guarantee future price behavior, but can be useful hints of future price activity.
Continuation Patterns
These patterns imply that the price will continue in the same direction after a brief pause.
Triangles: Symmetrical, ascending, and descending triangles form between converging trend lines. A breakout above the triangle suggests continuation of the original trend.
Flags and Pennants: Small, short consolidation patterns occur after a sharp price movement that looks like a "pole." A bullish flag or pennant suggests there will be a breakout headed upward.
Reversal Patterns
These patterns indicate that a trend is nearing its end and is about to reverse.
Head and Shoulders: A classic reversal pattern that looks like a baseline with three peaks. The head is the highest peak, with the left and right shoulders being the lower tops. A break of the neckline (the support connecting the lows) indicates a strong bearish reversal. An inverted head and shoulders indicates a bullish reversal.
Double Tops and Double Bottoms: A double top occurs after the price makes two peaks in a row at similar price levels, indicating an inability to break the resistance, thus signalling a bearish reversal. The double bottom is the opposite, two lows at similar levels, indicating a bullish reversal.
Learn more about how to use these patterns in your trading with our Online Stock Market Training for Trading Rules and Strategies.
Conclusion
Acquiring the ability to read stock charts is a step every would-be trader or investor should take. Learning about chart types, trends, and patterns can give you a huge advantage. Remember that technical analysis is a skill that develops with repetition. Spend time on historical charts as good practice to help train your eye to spot patterns. There will never be a single perfect indicator or pattern, but layering these together with minor risk management can improve your likelihood of making a decision to enter the market.
When learning is over and you want to seek out a deep dive into understanding financial markets, you can take something like the Stock Market Beginners Course for Investors and Traders and 'up your game' as it were, right from the get-go of your training program. If you are interested in taking something like the Advanced Technical Analysis Classes to refine your technical analysis skillset.
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